Three Mini-Bubbles Burst. Is One Of The Big Ones Next?

Financial crises tend to start at the periphery and work their way into a system’s core. Think subprime mortgages (a tiny little niche of a few hundred billion dollars) that blew up in 2007 and nearly brought the curtain down on the whole show.

There’s no guarantee that the same dynamic will play out this time, but stage one – the bursting of peripheral bubbles – has definitely arrived, with three in progress as this is written.

Subprime auto loans

One of the bright spots of the past few years’ industrial economy was the willingness of people who couldn’t afford new cars to buy them anyway, usually on terms that lock them in until those cars are barely roadworthy seven years hence. This trend always had an expiration date (as does everything “subprime”) and January appears to have been it.

(Bloomberg) – The American consumers who were stretching themselves to buy or lease a new car are starting to go missing from showrooms.

Rising interest rates and new-vehicle prices are squeezing shoppers with shaky credit and tight budgets out of the market. In the first two months of this year, sales were flat among the highest-rated borrowers, while deliveries to those with subprime scores slumped 9 percent, according to J.D. Power.

The researcher’s data highlights what’s happening beneath the surface of a U.S. auto market in its second year of decline after a historic run of gains. Automakers probably will report sales in March slowed to the most sluggish pace since Hurricane Harvey ravaged dealerships across the Texas Gulf Coast in August, according to Bloomberg’s survey of analyst estimates.

Credit Profiles

Westlake Financial Services has specialized in subprime lending since its founding in Los Angeles thirty years ago. Subprime loans now make up just 55 percent of its portfolio, down from 75 percent five years ago, said David Goff, vice president of marketing.

“Subprime losses increased maybe to pre-recession levels a year or so ago,” Goff said in an interview last month. “That caused you to require a little bit more from the subprime customer. And those people, instead of buying a new car, are switching over to a used car.”

Mortgage refis

As interest rates fell inexorably over the past 30 years, a mortgage holder could refinance at a lower rate every two or three years and either pocket some extra cash or lower his or her monthly payment. This worked like a rolling tax cut for homeowners and a steady source of zero-risk income for banks.

(MSN) – Refinancings make up a smaller portion of the mortgage business than at any time in the past two decades, posing a challenge for lenders who already fear higher interest rates and climbing house prices could eventually depress purchase activity.

Last year, 37% of mortgage-origination volume was because of refinancings, according to industry research group Inside Mortgage Finance. That is the smallest proportion since 1995, and the number of refinancings is widely expected to shrink again this year. In 2012, refinancings were 72% of originations.

While purchase activity has climbed steadily from a post-financial-crisis nadir in 2011, growth in 2017 wasn’t enough to offset a $366 billion decline in refinancing activity. The result: The overall mortgage market fell around 12%, to $1.8 trillion, according to Inside Mortgage Finance.

What’s more, there are fewer homeowners eligible to refinance because of rising rates. The number of borrowers who could benefit from a refinancing is down about 37% from the end of last year, estimates Black Knight Inc., a mortgage-data and technology firm. At 2.67 million potential borrowers, this group is at its smallest since 2008.

Cryptocurrencies

Bitcoin’s journey from nerd novelty to global psychological dominance was truly epic. But it ended in 2017, and the slope has been negative ever since. As this is written bitcoin is down by more than half from its peak and the crypto universe market cap is now smaller than bitcoin’s alone was a year ago.

This of course might not be the end for cryptocurrencies. They’ve had several big corrections during their emergence and could take off on another parabolic run at any time. Still, the latest correction came just as millions of new users were jumping in worldwide, and they won’t recover from those psychic scars easily.

(MSN) – Bitcoin, the poster child for cryptocurrency, is in the throes of a bear market that began shortly after the asset hit a price of just over $19,000 in December. Judging by Google search trends, that’s a state of being bitcoin isn’t likely to break out of any time soon.

Along with the coin’s value, Google searches for bitcoin have plummeted in 2018. Has the bubble really burst this time?

FOMO Fades

Fear of missing out — FOMO, as it’s colloquially referred to — was often noted last fall as a major wind beneath bitcoin’s wings. With the crypto conversation migrating from trading desks to dinner tables, everyday folks armed with only a passing understanding of the currency or the technology that underpins it poured money into the asset.

Awash with demand, bitcoin did what any good commodity would and became more valuable. Since then, whether from profit-taking or panic selling, the price has descended more than 100 percent from the highs. And there seems to be little hope recreational buyers will step in and provide support.

A look at how the Google search trends chart correlates with a chart of bitcoin’s value over the last year implies that the fair-weather investors who helped propel it into the stratosphere may have moved on.

So it’s beginning. The periphery is crumbling.

As for which bubbles make up the core of the system, some obvious candidates are sovereign bonds, Big Tech stocks, and fiat currencies. These are entirely different animals from, say, subprime auto loans, and when they go they’ll take a lot of underlying assumptions down with them.

Of the three, Big Tech looks closest to the edge. The FANG+ stocks have been rising for so long that they’ve become an uncomfortably large part of the overall stock market. So their fate to an extent determines that of the Dow and S&P. And lately their situation is looking dicy for a variety of reasons.

First and foremost, they’re all ridiculously expensive, trading at historically outrageous multiples of earnings, cash flow, book value, you name it. Second and much stranger, they’re behaving in ways that are enraging both competitors and customers, so a backlash of some sort is inevitable. Third and stranger still, they find themselves in an environment where the president is completely willing to attack them on their own social media turf while starting trade wars that disproportionately affect tech company products. Add it all up and the unlimited future of just a few months ago now looks like an oncoming storm.

(CBS) – U.S. stocks tumbled into correction mode to start off the second quarter on Monday, as technology shares got battered on worries sparked by trade concerns and tweets by President Donald Trump and Elon Musk.

“Today it’s the tech and tariff trade that has the market rattled,” said Nick Raich, CEO of The Earnings Scout.

The Dow Jones industrial average shed 458 points, or 1.9 percent, while the S&P 500 dropped 2.2 percent. But the day’s biggest loser was the tech-heavy Nasdaq, which plummeted 2.7 percent.

Retaliatory tariffs imposed by China on a slew of U.S. exports and Mr. Trump’s ongoing criticism of online retailer Amazon helped push equities into a downward spiral. “We’re starting a new quarter on an awfully soft footing,” said Art Hogan, chief market strategist at B. Riley RBR. He chalks up the market’s slide to “tariffs, protectionism and chaos in the White House.”

The president has for days been assailing Amazon, lately focusing on a “scam” contract with the U.S. Postal Service that has actually been judged profitable for the post office. “It’s a long way to go to say ‘I don’t like the Washington Post’,” said Hogan of the newspaper owned by Amazon owner Jeff Bezos.

“We import a lot of technology from China,” said Paul Nolte, a senior vice president and portfolio manager at Kingsview Asset Management. “What may happen here is we see retaliation from China specific to technology.”

A tech crash would be brutal but survivable. But if the markets lose faith in sovereign debt and fiat currency, that’s the end of the system as we know it. A plausible last act to bring this about might be a tech dislocation that pulls down the rest of the stock market, prompting central banks to respond with massive money creation and universally-negative interest rates. Then let’s see what happens to those fiat currencies.